Is a Franchise for You? Making the Right Decision on Starting a Franchise

by Rayna Gokli April 15 2008, 21:12

I. Introduction

Starting a franchise can be a lucrative business. However, franchising is also an expensive start-up venture and can have significant legal consequences if not done properly. This article will first define a franchise and discuss the different types. It will then discuss financing a franchise and the legal issues of starting a franchise. Finally, the article will conclude by discussing the best way to go about starting a franchise.

II. Defining Franchise

A franchise is "the right or license granted by a company to an individual or group to market its products or services in a specific territory." [1] In other words, franchising is similar to cloning a business. [2] The process of buying a franchise involves renting the franchiser's trademark and business model. [3] Most franchises, like McDonald's and Taco Bell, are considered "turnkey" business opportunities because all the purchaser needs to do it turn a rhetorical key in order to get the business up and running. [4]

III. Financing

The cost of starting a franchise depends on both the size and location of the business. However, regardless of the specific business, most of the cost of starting a franchise falls in the hands of the franchisee. [5] The franchisee is usually required to pay a franchise fee that can range from $10,000 to $100,000, but is generally between $20,000 and $30,000. [6] "Even if you have the franchise fee in cash, you will need to make an initial investment in your business." Such investments include, "a set amount of unborrowed funds readily available to you, a net worth that meets your franchiser's minimum requirement, and working capital to support your ongoing expenses to the extent that they are not covered by your revenue. Depending on your business, you may need as little as two or three months or as much as two or three years worth of working capital. The franchiser should provide an estimate." [7] Additionally, once the business is up and running, the franchisee will be required to pay royalties to the franchiser in an amount specified in the original agreement. [8]

The legal costs of retaining a franchise are spread between the franchiser and franchisee. From a legal standpoint, an inexpensive attorney specializing in franchising might develop your basic legal documents (franchise agreement and Uniform Franchise Offering Circular) and the other related work (trademark protection, license agreements, etc.) for as little as $25,000." [9] Additionally, the franchisee will want to retain his or her own attorney to review documents and ensure their rights and assets are protected. [10] However, if the franchiser wants to aggressively expand the business the legal costs may significantly increase. [11]

IV. Legal Issues

Before purchasing a franchise, there are a number of legal issues to be aware of. The prospective buyer should look into the background and records of the franchise. [12] All franchises are required to provide prospective franchisees with a "Uniform Franchise Offering Circular" (UFOC). [13] The UFOC must contain the franchise's litigation history and bankruptcy information. [14]

Next, the franchisee should be aware of instances in which litigation might arise between the franchisee and franchiser. [15] "Franchisers, for example, generally instigate litigation when a franchisee has not met contractual obligations. Franchisees, on the other hand, initiate legal action generally because they a re unhappy with the franchiser or they're not making enough money." [16]

The franchisee should also be aware that not all of his or her rights are included in the official franchise contract. [17] For example, oral statements made between the franchisee and franchiser may be enforceable in a court of law even if these statements are contrary to the written agreement. "Most courts are willing to allow testimony as to communications to explain or clarify ambiguous writings. Additionally, evidence of the custom and practice in a particular industry and the courts of conduct between the particular franchiser and franchisee, is generally admissible to assist the jury in determining what the agreement entailed. Accordingly, if a franchiser has acted inconsistently in regard to its obligations under the written agreement, this conduct is likely admissible, even though the written agreement states it is now." [18] However, the best way to prevent litigation is to understand the potential legal issues that may arise and to consult a lawyer in order to adequately prepare for such problems.

V. Conclusion

Starting a franchise is often more complicated than starting a business from scratch because the franchisee is joining an established business. However, because a franchise comes with a proven business model, it also has a high likelihood of success. In order to assess the pros and cons of starting a franchise, a potential franchisee should consult an attorney and speak with the franchiser.

[1] Dictionary.com (last visited April 8, 2008).

[2] Franchise: Definition by Susan ward, About.com, http://sbinfocanada.about.com/od/startup/g/franchise.htm (last visited April 8, 2008).

[3] Id.

[4] Turnkey Business by Susan Ward, About.com, http://sbinfocanada.about.com/cs/startup/g/turnkey.htm (last visited April 8, 2008).

[5] How Much Does a Franchise Cost?, AllBusiness, http://www.allbusiness.com/buying-selling-businesses/franchising-franchise-fee/2182-1.html (last visited April 8, 1008).

[6] Id.

[7] Id.

[8] Id.

[9] How Much Does it Really Cost to Start a Franchise?, Mark Sibert, Yahoo!Small Business, http://smallbusiness.yahoo.com/r-article-a-2315-m-1-sc-8-how_much_does_it_really_cost_to_start_a_franchise-i (last visited April 8, 2008).

[10] Id.

[11] Id.

[12] What You Should Know About Franchise Lawsuits, AllBusiness.com, http://www.allbusiness.com/buying-exiting-businesses/franchising-franchises/2975154-1.html (last visited April 8, 2008).

[13] Id.

[14] Id.

[15] Id.

[16] Id.

[17] Legal Rights of Franchisees Go Beyond the Documents, J. Michael Dady, Bison: Franchise and Business Opportunities, http://www.bison.com/Forum/Articles/legaldady4-05/html (last visited April 8, 2008).

[18] Id.

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